Santander 123 is now 3% TAX-FREE for most – is the £5/mth fee worth it?

Update June 2016: This was written in April 2016. We’ve updated the products mentioned here, but Martin’s analysis still stands – the MSE team.

Santander 123 is the UK’s most switched to bank account – due to the high interest paid on savings, and cashback given on bills. And from tomorrow, it’ll become even more attractive as the 3% interest it pays will be tax-free for many due to the new personal savings allowance.

Yet, in January it increased its fee from £2 per month to £5 per month (so £24 to £60 a year) which of course reduced everyone’s returns and made people unhappy. I’ve blogged about this previously but wanted to update where we are now – is Santander 123 worth it? How does it compare to cash ISAs?

What does the 123 account offer?

There are two benefits of Santander 123, though very separate, the key to the account is combining them. Of course to access it you’ll need to meet its terms, which is to put in £500/mth (though you can then withdraw it the next day) and have two direct debits set up. Full info on the eligibility terms in the Santander 123 write-up.

Cashback on bills paid via the account. This can be a substantial amount – a fair proportion of people earn over £500 a year from it. It pays 1% on water, council tax and Santander mortgage payments (up to £10/month on mortgage), 2% on gas, electricity and Santander home insurance and 3% on phone, broadband, mobile and TV.

However this only works if this is the account you pay all your bills from – so shift them to here. If you don’t pay bills (e.g. parents or partner does) and it’s not appropriate for them to be paid from your account, it’s far less attractive.

As for what alternatives there are – the nearest equivalent is NatWest’s Reward Current Account pays 3% cashback on the similar household bills, for a £3/month fee, but doesn’t offer any interest on the account.

High interest on up to £20,000 savings (or £60,000 for a couple). It pays 3% interest if you’ve £3,000 to £20,000 in it. While other top bank accounts pay higher rates of interest – some up to 5% – all the rest only do this on a maximum £5,000 in them (some far lower than that). The real gain from Santander is you can save far more at the top rate.

While 3% doesn’t sound much, in this day and age it beats every normal savings account, and every easy–access cash ISA. Plus work it right (see how) and you and your partner can put £20,000 in an account each and then have a joint account – so that’s up to £60,000 shared as a couple..

It’s also worth noting, that with Santander 123, like most high interest bank accounts, if you get it, you get access to a linked 5% regular savings accounts you can put up to £200 a month in too – which increases the returns.

Is it worth opening this with the £5/month fee?

There are a number of ways to look at this, but I’ll keep it simple. As the account is an outright winner on savings interest alone, if the cashback you get covers the fee, it’s still worth it.

While I could do lots of calculations on this, the best way to assess it is just to ask existing users what they earn. So I asked, and by January 2016 over 2,600 had responded in my Santander poll,

Poll results: How much cashback do you earn from you Santander 123 current account?

The numbers show 66% of people earn enough to cover the £5 a month fee – that’s more than three in every five people.

The median average amount of cashback that the people we polled make is between £100.01 and £150 per year and one in five said they’re getting over £300 cashback per year.

So, for the majority, the cashback covers the new fee and more.

Looking at the savings rates in isolation

So we now know for most people the cashback alone covers the fee, yet if we now assume for some reason you made no cashback, is Santander 123 still worth it just for the savings interest?

This has changed a little due to the new personal savings allowance (PSA) which launches tomorrow – 6 April 2016 – and means basic 20% rate taxpayers can now earn £1,000 interest a year without paying tax, higher 40% rate £500 (top 45% rate taxpayers don’t get a PSA).

This includes interest from high-interest bank accounts like Santander, so for many, interest here will be tax-free too. In practice all savings interest is paid tax-free. But if you go over the limit its clawed back via self-assessment or the payroll. Read the full personal savings allowance guide for full info on how it works.

It’s worth noting, it is the amount of interest you earn in total that counts – the fee doesn’t reduce this, it’s separate (in other words if you earn £200 interest and pay a £60 annual fee, for tax purposes you’ve still earnt £200 interest).

Grey highlighted boxes indicate which account wins in each scenario. (1) Money would need to have accumulated in more than one tax year.

Exactly how this works out depends on what tax you pay…

Basic rate taxpayers. Assuming you’re within the £1,000 tax-free PSA allowance, Santander 123 smashes every cash ISA on the market by a mile. Its real competitor is Club Lloyds which pays 4% on £4,000 to £5,000 in it and is fee free (as long as you meet its minimum monthly pay in).

The cut off point between Club Lloyds and Santander 123 (even with paying the full £5 fee and assuming you don’t get cashback) is £8,600. If you’ve more than that, then Santander 123 is the clear winner. The only time it may not win is if you play the complex game of opening multiple accounts (see the 5% savings Loophole).

Higher-rate taxpayers. Here it’s a bit more complex – but in general the 123 account is still an easy winner.

The complexity comes from the fact that if you have the full £20,000 in Santander 123, it’d generate £592 in interest (not £600 for very complicated reasons of compounding) and the PSA limit is £500, so you’d pay 40% tax on the final £92 –meaning the total interest is £555. That still smashes everything else. So, if this is the only taxable savings you have then for higher-rate taxpayers too, Santander is a winner if you’ve £8,600+ in it, even incorporating the fee.

The only question is once you’re earning over the £500 PSA amount, would higher-rate taxpayers be better putting that money into a tax-free cash ISA? As even after 40% tax Santander pays 1.8% and the top easy-access cash ISA only pays 1.3%, so Santander still wins. Yet, there are some long fixed-rate cash ISAs that do pay over 1.8%, so arguably after tax they beat the 123 account.

Yet, for most people Santander is what you should be using your PSA for anyway, so that’s irrelevant, you’d do both if you had more. The only time it’s likely worth considering a higher-paying, long-term fixed ISA over Santander is if you had the full £20,000 in a single account and the full £20,000 in a joint account with your partner – in that case, if you’re not planning to access the cash, a long-term fix ISA could just beat Santander for £10,000 or so of that cash.

So who should keep the account?

Few people who chose this account will either be earning interest without cashback or vice–versa; if you do, the sums above are pretty clear.

Yet most people get a combination of the two. If that’s you, then I’ve gone ultra nerdy and drawn up a graph to help you decide at what point you should ditch or keep the account.

Going up the graph is the amount of savings you have and along the bottom is how much cashback you need to earn. If you’re in the green – so you have savings over £8,600 and earn no cashback – then the account’s a clear winner for you.

Equally if you have huge bills and very little savings, this can still be a winner. Obviously though most people will be somewhere in between. So as a very rough rule of thumb, if you’ve over £7,000 of savings and earn some cashback even if it is not quite enough to cover the £60 annual fee.

So while it is always frustrating when banks put their fees up, for most who chose it for the right reasons in the first place, Santander is still head and shoulders above anything else out there. If you are annoyed at the rise, the best thing to do is gnash your teeth, growl a little and weep for the wonders of the low fee that was, but be careful not to bite off your nose to spite your face by leaving to punish it.

If you are in the red then it’s worth considering other top savings or if you’ve no (or very small) savings, and make less than £100 cashback elsewhere, you may want to look at the short term gain of switching to an account that gives you a switching bonus. See top bank account switching bonuses

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This is an open discussion; anyone can post. Comments may be edited, and are only published during the working day. Please report any spam, illegal, offensive, racist, libellous posts (inc username) to fbteam@moneysavingexpert.com.

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